30.2 Big Losses by Financial Institutions Allied Irish Bank($700 million) Barings($1 billion) Chemical Bank($33 million) Daiwa ($1 billion) Kidder Peabody ($350 million) LTCM ($4 billion) Midland Bank ($500 million) National Bank ($130 million) Sumitomo ($2 billion)

Futures Contracts Available on a wide range of underlying assets · Exchange traded · Specifications need to be defined: What can be delivered, - Where it can be delivered, When it can be delivered Settled daily Options, Futures, and Other Derivatives,5 5th edition2002 by John.hull

Long Short Hedges A long futures hedge is appropriate when you know you will purchase an asset in the future and want to lock in the price A short futures hedge is appropriate when you know you will sell an asset in the future want to lock in the price

Nature of Swaps A swap is an agreement to exchange cash flows at specified future times according to certain specified rules Options, Futures, and Other Derivatives, 5th edition 2002 by John C. Hull

American vs European options An American option is worth at least as much as the corresponding European option

A Simple Binomial model A stock price is currently $20 In three months it will be either $22 or

The Stock Price Assumption Consider a stock whose price is s In a short period of time of length 8t, the return on the stock is normally distributed

A bank has sold for $300,000 a European call option on 100,000 shares of a nondividend paying stock S=49,K=50,=5%,=20% T=20 weeks,μ=13%

What loss level is such that we are y%o confident it will not be exceeded in n business days?

Binomial trees are frequently used to approximate the movements in the price of a stock or other asset In each small interval of time the stock price is assumed to move up by a proportional amount u or to move down by a proportional amount d Options